Paying for Health Care Over Time

Simon Wren Lewis illustrates the long-run government budget constraint with this tale:

There are many reasons why, outside of a recession, deficits that, if sustained, would steadily increase the debt to GDP ratio may be bad for the economy, but let me give the most obvious here. For a given level of government spending, interest on debt has to come out of taxes. The higher the debt, the higher the taxes. That is a problem because high taxes discourage people from working, and it is also unfair from an intergenerational point of view. This last point is obvious if you think about it. The current generation could abolish taxes and pay for all spending, including any interest on debt, by borrowing more. That cannot go on forever, so at some point taxes have to rise again. A whole generation has avoided paying taxes, but at the cost of future generations paying even more. As a result, unless there is a very good reason like a recession, a responsible government will not plan to sustain a deficit over time that raises the debt to GDP ratio. The problem though is that it is very tempting for a government not to be responsible. The current US government, which is essentially a plutocracy, wants above all else to cut taxes for the very wealthy, and if they do it without at the same time raising taxes on other people but instead by running a deficit they think they can get away with it. Democrats have every reason to say that is irresponsible, although of course the main thing they should focus on is that the last people who need a tax cut are the very rich.

In my discussion of a paper by Jeffrey Miron, I exemplified what he is saying here with the Reagan tax cuts for the rich and defense spending build-up, which may be a description to what Trump is doing now. As Simon admitted after this comment, borrowing to fund infrastructure investment is different:

But surely spending from borrowing and at least some taxation wouldn't necessarily have the same effect. An equilibrium could at least be sought at higher levels of borrowing and higher levels of economic activity. Particularly with spending on education of course (where in any case the intergenerational fairness argument is weaker).

I added a comment that the 1983 prefunding of Social Security benefits is another form of intergenerational equity where we build-up a trust fund to pay for our future retirement benefits – assuming of course that the Republicans do not squander it on more tax cuts for the rich. But let me tackle the issue of health benefits since my noting of the Baumol Cost Disease drew this appropriate response from Barkley:

The Baumol cost disease hits all labor-intensive services, including large amounts of government activities that are not health-related. But somehow the US has had this especially rapid rate of med cost rise not experienced in any other nation, sort of like our exceptionalism on mass school shootings. This is way beyond Bauumol cost disease.

I agree and more on this after noting Barkley’s other comment:

Miron is right that the main upward driver on the spending side is medical care, but somehow Miron does not seem to offer any hope that we can restrain its cost growth to the inflstion rate or even less.

We can and should reign in medical costs. As I see it – there are two issues that both impact how Federal health care payments evolve over time. One is the fairness issue sometimes known as universal health care. If we as a nation do the right thing and make sure health care is both accessible and affordable to all, it is likely that government funding of health care will take a greater portion of total health care spending. I guess we could leave this to the states like Paul Ryan wants to but then states tend to use more regressive forms of taxation. I would prefer a greater role played by funding via a progressive income tax system. Barkley’s point is that we pay a lot more per capita than other developing nations. This chart may not be the “chart of the century” but it is “excellent” as it traces total health care spending as a share of GDP since 1980 for both the U.S. and other nations. Whereas our ratio jumped from 8% in 1980 to near 17% now, other nations have only seen modest increases in their health care spending relative to GDP. So maybe the Baumol Cost Disease is a small part of the story but rising market power for health care providers is a serious problem for the U.S. but not other nations. Timothy Lee is right:

Most of federal and state budgets are spent on services — law enforcement, education, health care, the courts, and so forth — that are subject to Baumol’s cost disease. Government spending on these categories has grown inexorably in recent decades, and many conservatives see this as a sign that there’s something badly wrong with how the government provides these services. But Baumol’s work suggests another explanation: It was simply inevitable that these services would get more expensive over time, at least relative to private sector manufactured goods like televisions and cars. The rising cost of services is an unavoidable side effect of rising affluence generally. There’s probably no way to maintain our current standard of living while cutting the cost of these services back to the levels of the 1950s.

Of course this also means governments need to crack down on market power in these sectors. The relative price of a string quartet’s performance may have to rise over time but there is no reason to pay the musicians twice the market salary. Maybe doctors should be properly compensated even as their productivity does not rise with manufacturing sectors but we need to find a way to hire U.S. doctors at salaries closer to what doctors receive in the rest of the developed world. But let me finish with what really galls me about Jeffrey Miron’s paper:

Given those projected values for real GDP, I construct projections for revenue and discretionary spending by assuming they always equal 17.3 percent and 8.2 percent of real GDP, respectively. The values equal the average revenue-over-GDP and discretionary-spending-over-GDP ratios, respectively, between 1975 and 2014. …Figure 20 suggests that even with tax revenue substantially above its postwar average, and assuming no effect on growth, fiscal imbalance would still be large. If higher taxes have even a modest negative impact on growth, tax increases have no capacity for restoring fiscal balance.

To say we cannot raise the ratio of taxes to GDP much above 17.3% is just absurd. We can if we have the political will. But Republicans either argue this is not fair or there is some Art Laffer magic wand. As an economist, I reject the latter. But on the politics, let’s think of a young man who just got married and is expecting a family of children. Inevitably some parents will face rising health care costs unless they are lucky. I would hope this father would not put going out on the town and expensive vacations ahead of the health care needs of his family. For a nation – rising health care costs over time need to be funded and most hopefully by an equitable Federal government even if the very rich get to take less vacations in the Hampton or fewer shopping sprees on Rodeo Drive.